Billion Dollar Decisions: The Benefits Of Risk-Based Capital Plans

on March 31, 2016 at 10:00 AM

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Aging infrastructure is one of the top concerns among electric utility leaders across the United States. Utility leaders need to address this issue proactively before failures create serious reliability issues, accelerate costs and strain the labor force beyond its capacity. Addressing this myriad of aging assets requires manpower and extensive capital investment – investment that often require rate increases to fund.

Even without rate increases, utility leaders must get the most benefit from their resources as possible. Capital investments that are prioritized to address assets with the greatest likelihood and impact of failure can help utility leaders better manage risk and improve reliability. Risk-based and prioritized plans also provide a powerful business case to regulators to justify investments and rate recovery.

Assessing and Calculating Risk

Not all electric infrastructure assets or components have the same level of criticality to the system if they fail. This can be compared to how many people maintain their vehicles. If the radio in a car fails, it is an inconvenience, but it does not impact the ability of the vehicle to provide safe and reliable transportation. However, if the tires are at risk of failing, the chances of a dangerous incident increase.

Determining the criticality of infrastructure assets is an important component of prioritizing capital plans. Assessing criticality requires developing criteria and weighting them to determine an asset’s importance. Such criteria commonly include:

•  Customers/load lost
•  Planning violations
•  Operational impacts
•  Safety
•  Environmental impacts
•  Regulatory compliance

Utilities must also understand the likelihood of failure of their infrastructure assets. Determining the likelihood of failure is a challenging task. In the aforementioned car analogy, most people will not let their tires run to failure because of the potential consequences. Rather, all tires come with a general life expectancy in terms of age and miles driven. As tires age and wear, we begin to monitor them until we are no longer comfortable with the risk of failure.

While we cannot predict exactly when our tires could fail, there are methods to estimate failure within a reasonably acceptable period of time. For infrastructure assets, deterioration curves for an asset class provide a good method of prediction. Curves can be developed from actual failure history, such as in the development of “Weibull curves,” and they can also be developed from “Iowa curves” found in depreciation studies.

Calculating asset risk involves quantification of both its consequence and likelihood of failure. The product of the two scores provides a quantified risk score that can be tied to a particular asset. This enables ranking of infrastructure investments based on asset risk. The consequence and likelihood of failure can be mapped into a 5×5 matrix to visualize an asset’s risk position relative to other assets on the system (Figure 1).

Asset Risk Score

Prioritizing Assets with Benefits-to-Cost Ratios

There are several methods to prioritize assets after risk scores have been calculated. For one large, Midwestern electric utility, Black & Veatch developed a benefit-to-cost ratio for each asset. In this case, the benefit of an asset is the difference in the asset’s risk score if it were not proactively replaced and the risk score if it were to be proactively replaced. This allows quantification of the benefit of replacement in terms of risk score reduction.

The example provided in Figure 1 shows the current risk score of an asset is 32.7. If the asset were to be replaced, its likelihood of failure would be reduced to 2 percent, reducing its risk score to 0.76. Therefore, the benefit of replacement is a risk score reduction of 31.94. For the Midwest electric utility client, the benefit was then divided by the cost to give a benefit-cost ratio. Once all the assets had a benefit-cost ratio, capital spending was allocated to those assets that had the highest benefit-to-cost ratio.

Demonstrating benefit and need to regulators is critically important in gaining approval for necessary capital programs to proactively address the effects of aging infrastructure. Furthermore, such plans illustrate a utility’s diligence in maintaining safe and reliable electric service, and that utilities are making wise and efficient use of customer rates. By prioritizing capital improvements to those assets that pose the greatest consequence and likelihood of failure, utility leaders can improve capital efficiency, reduce risk and enhance reliability of their aging systems.

Published originally on Black & Veatch Solutions.